IRS Rules Landowning Companies
an Spin Off Land to Reduce Taxes
The Internal Revenue Service ruled that companies can spin off real-estate assets tax free in the form of real-estate investment trusts, a decision that gives landholding companies a tax-efficient way to distribute land to shareholders.
The ruling could allow landowning companies to cut their tax burden by moving real-estate assets off their books and paying rent to a REIT they would create.
The ruling, issued late Monday, didn't name any companies but immediately clears up a knotty tax issue involving a merger in the forest-products industry. Plum Creek Timber Co., a Seattle REIT that owns timberlands, last year agreed to buy Timber Co., a non-REIT and the separate, timber-harvesting unit of Georgia-Pacific Corp., Atlanta. The two companies agreed last year to the all-stock deal, valued then at $3 billion.
A Georgia-Pacific spokesman said the company expected the IRS ruling but it will continue to pursue a "private-letter" ruling specific to its deal. A Plum Creek spokesman declined to comment.
The ruling is aimed at clearing up regulatory ambiguity on the definition of REITs. For a spinoff to qualify for tax-free status, both the parent company and the newly created company must be engaged in an "active" business, according to tax rules. The IRS in 1973 defined REITs as passive investment vehicles and has never explicitly changed the definition, even after a 1986 tax-law change that allowed REITs to actively manage their portfolios. This week's ruling for the first time explicitly defines REITs' current business and operations as active.
Robert Willens, a managing director at New York investment bank Lehman Brothers Holdings Inc., said the impact of the ruling could be "huge" if landholding companies such as fast-food retailer McDonald's Corp., of Oak Brook, Ill., or retailer Wal-Mart Stores Inc., of Bentonville, Ark., spin off their real-estate assets to shareholders in tax-efficient REITs to save on taxes. "It's hard to see why they wouldn't," Mr. Willens says. "I'm hard- pressed to think of an IRS ruling that had this much potential."
Lee Sheppard, a contributing editor for the newsletter Tax Notes, counters that companies might have myriad business reasons for owning land and might not need the deductions that would come from paying rent. "It's very nice from a tax point of view, but it's not exclusively a tax question," she says. "Real estate is not a terribly burdensome thing to own. The question is: Do you need the deduction? Not everyone needs that."
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